Corporate Fraud as an Ethical and Leadership Dilemma

Introduction

An ethical dilemma is a situation presenting conflicts of interest or a paradox while choosing the right cause of action among a set of alternatives. In such situations, making choices between two alternatives is difficult as choosing one means losing the benefit of the other. Ethics refers to standards of behaviors or conducts. It involves the evaluation of individual values, possession of knowledge on communal principles, and individual standards (Beran, 2009). It also entails the development of the capacity to make well-informed choices and the realisation of the impacts of the choices made both in a short-term and long-term basis. Where the choices result in undue repercussion that may impair an organisation or individual’s achievement of pre-set standards of conduct, codes of ethics demand that such persons take the responsibilities of the aftermaths of their choices (McFarlane, 2006). In organisational settings, social responsibility amounts to one of the mechanisms of enhancing the development of these concerns of business ethics. In the same context, fraud robs some stakeholders of their interests in the operations of organisations. Hence, like in the case of the Enron and Marconi scandals, fraud and the means to mitigate it amount to unethical dilemma requiring leadership interventions across the world. This paper discusses corporate fraud as an ethical and leadership dilemma, which helps in balancing the interests of stakeholders within corporations.

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An ethical dilemma involving fraud

People working at managerial levels may acerbate fraud. Such people have interests in the operations of organisations with the anticipation of increased earning and personal gains with time. An arising ethical dilemma is whether it is ethically wrong to engage in fraud to secure more gains of financial resources at the expense of the interest of other organisational stakeholders such as the owners, who also anticipate an organisation to have increased returns on their investments. As a supporter of the non-traditional paradigm of organisational management, I believe that leaders should not amass organisational wealth, which could have been allocated alternatively for corporate social responsibility. Consistently with my character, I believe they should not put in strategies for hindering information disclosure from limiting taxation. Considering the implications of engaging in fraud, is it then ethically right for leaders to jeopardise the interest of other people at the expense of advancing their interest? This question presents an incredible ethical dilemma to leaders as explored in this paper.

The need for ethical leadership

In real life experiences, the collapse of large organisations in the United States and immense concerns of fraudulent activities underline the importance of consideration of ethical leadership in the matter involving fraud. Scholars such as Lewis (2002) and Holjevac (2008) believe that ethical values are ideally permanent. In the context of my line of academic specialisation, viz. engineering, ethical values should be observed, cultivated, accorded respect, and applied in all work scenarios.

Leadership scholars widely contend that ethics are necessary for the success of any organisation. Nevertheless, there is no universally agreed-upon definition of ethics (Buff & Yonkers, 2005). For instance, Lewis (2002) says ethics constitute rules, principles, codes, or standards that set guidelines for conducting activities of a business in a truthful manner. On the other hand, Hall (2003) defines ethic as “knowing what ought to be done, and having the will to do it” (p. 12), while Barsh and Lisewski (2008) define ethics as “the systematic process that commercial organisations use in order to evaluate actions as right or wrong” (p.29). In engineering practice, what can be pinpointed from these definitions is that ethics entails making the right decisions for the right cause.

Varying scholars in different disciplines enact different theories explaining how people react when they encounter certain situations, which are unethical or posing an ethical dilemma. These theories can be grouped into normative approaches and descriptive approaches (Carroll & Buchholtz, 2006). In the perspectives of normative approaches, ethics essentially define various values and principles, which are akin to the definition of and guiding numerous decisions and behaviours made by engineers, who are also the leaders of engineering firms.

Descriptive approaches consider ethics to underline what individuals’ consider as ethical’ organisational behaviours, individual behaviours, and societal behaviours. Whether from descriptive or normative contexts, the role of ethics in the enhancement of engineering practice values have been noted by several studies. For instance, Hammond and Slocum (1996) note that organisations that are socially ethical and responsible experience reduced risks for “they appear highly sensitive to external events” (p. 160). Consumer boycotts and lawsuits are associated with negative publicity emerging from the negation of businesspersons from incorporating the long-term impacts of engaging in unethical behaviour. For example, an engineering firm has a reputation for practicing fraud, which erodes shareholder confidence, scares potential future investors.

Engaging in unethical business behaviours is costly. About Choi (2006), this cost does not only express itself in terms of time but also in terms of money. Pettijohn, Pettijohn, and Taylor (2008) contend with this line of argument and further assert that organisations in all industries “will be compensated for the money invested through the profits generated through increased employee morale and productivity” (p.546). This assertion implies that although an organisation may encounter high expenses following its strategic decisions to run an ethical firm in the short run, long-term gains may form subtle grounds for engaging in such behaviour. Consequently, it is essential for organisations to focus on teaching strong business ethics. This goal may be accomplished through “applying and enforcing codes of conduct, rules, and policies on ethical behaviour, as well as imposing positive and negative discipline where needed” (Schwepker, 2001, p. 41). Executing this move is perhaps crucial bearing in mind findings by Valentine and Barnett (2003), which indicate that many people like working in organisations that have a positive ethical environment.

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Different engineering organisations are established with different goals and objectives. For example, where organisations’ operations are inspired by concepts of capitalism, one of the noble objectives entails increasing returns to the owners, viz. shareholders. In such engineering organisations, strategic decisions to help achieve this goal are realised through hefty investment in building a strong brand image. However, when unethical conducts present themselves within an engineering firm, this goal may not be achieved. Pettijohn, Pettijohn, and Taylor (2008) provide the explanation for this scenario by noting that even though “organisations spend millions of dollars on building a positive public image, that money is soon wasted when the organisation’s unethical practices are reported” (p. 555). Valentine and Barnett (2003) build on this argument by confirming that organisations, which approach their business from the perspectives of social responsibility coupled with ethical values, stand good chances of being more profitable in comparison to organisations that do not intertwine their operations with these two elements. The implication of this argument to engineering firms is that they stand better chances of being successful by executing their businesses in a manner that is both ethical and socially responsible.

Real-life examples explaining the problem with fraud

Scandals lead to the embezzling of funds, which affects the performance of an organisation negatively. Such crimes include Tyco, WorldCom, Marconi, and Enron scandals (Abbott, Parker, Peters & Raghunandan, 2003). Enron, which was an American energy organisation, was declared bankrupt in October 2001. The company had misrepresented its financial accounts to woo investors without their knowledge that it was already sinking into financial troubles. In 2002, yet another giant American conglomerate, Tyco, experienced a setback. Its CEO and CFO had stolen over $150 million from the organisation, thus making it top in the list of some of the biggest financial frauds in the United States. The crime was executed through the selling of stocks coupled with receiving various unapproved loans (Carcello, Hermanson, Neal & Riley, 2002). Unaware of the crime, investors continued to pump in their funds into the corporation.

In 2002, WorldCom, which is an American telecommunication organisation, financial records were misrepresented with the aim of embezzling investors’ funds. The organisational expenses were misrepresented as future investments. The scandal was estimated to cost investors $3.8 billion. Profits were exaggerated by more than $1.3 billion (Abbott et al., 2003). The three crimes led to the loss of investors’ confidence by reducing their returns on investments. Misstatement of the company’s financial records also implies that the government lost an incredible amount of tax revenues. Such crimes also limit the number of financial resources available for committing to corporate social responsibility. Organisational leadership assumes the responsibility of ensuring that no parties having stakes in the operation of an organisation are disadvantaged by any decision taken by the leadership arm of a firm. Scandals or fraudulent crimes are inconsistent with this ethical leadership responsibility amid the need to increase the personal gains of any practicing engineer.

Parties making choices

The choice of an engineer to engage or not to engage in fraud depends on the perception of ethical leadership responsibility among engineers and oversight organisations. In real-life practice, the chief executive officers and chief financial officers in any engineering firm make choices on whether to foster accountability and transparency in reporting of financial accounts. However, such choices are subject to scrutiny by oversight authorities such as internal and external auditors, who must work with the interest of the shareholders in mind. Borrowing from my experience, in some organisations to explore personal interests such as the need to secure future contracts, where auditors are also subcontracted in preparation of financial accounts of organisations that they audit, auditors may also collaborate with top organisational leadership to hinder transparency. Therefore, the participation of the legislative and regulatory parties in controlling the conducts of corporations is crucial in the effort to mitigate fraud in engineering organisations.

From the context of priory discussed real-life examples of fraud, the involvement of the above parties in making choices in matters involving fraud is evidenced by the design and implementation of the Sarbanes-Oxley Act in the United States. Tyco, WorldCom, and Enron scandals attracted the attention of lawmakers in the United States as they threatened to erode investors’ confidence. The US congress became aware that principles of corporate social responsibility or corporate citizenship failed to offer adequate protection to investors’ interests in corporations. Dealing with these problems required establishing legally enforceable guidelines on how corporations should prevent fraud from fostering accountability in a bid to boost investors’ confidence. Thus, legislators are another party having the capability to make choices for corporation operations.

Parties affected both in short and long term

In engineering firms, farad affects various parties. It erodes investors’ confidence, which shuts doors for prosperity and high economic growth (Sentt & Gallegos, 2009). In an engineering firm with the prevalence of fraud, it becomes impossible for leaders in the organisations to seal all loopholes that potentially give safe grounds to carry out fraud. For example, in real-life engineering practice situations, organisations developed their internal controls to ensure that they abide by principles of good organisational citizenship. Nevertheless, referring to the examples of fraud Tyco, WorldCom, and Enron fraud raised questions on the capacity of organisations, including engineering firms, to safeguard the interests of stakeholders, especially the investors. Arguably, where engineering firms’ managers become irresponsible and immoral to the extent that they make decisions to engage in fraud, they become an important party impacted by fraud in the long terms as an organisation loses the capacity to meet their needs in terms of salaries and other forms of remunerations.

Ethical leadership prescribes important strategies for placing engineering firms’ roles to stakeholders on the right track. Dishonesty undermines the interests of investors in an organisation. In a bid to curb the possibilities of defrauding investors, organisations acquire “the opportunity to utilise their skills, resources, and management capability to lead social progress in ways that even the best-intentioned governmental and social sector organisations can rarely match” (Porter & Kramer, 2011, p. 77). To this extent, fraud in engineering organisations also affects the communities within which an organisation is established as people lose confidence that the corporation serves their interest.

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Fraud affects all people doing business with an engineering company or expecting to gain from their operations. It is difficult to make precise computations of losses in many cases involving fraud. Experience with fraud cases like Marconi in the UK shows that fraud may cause organisation to wind up, lead to bankruptcy, stagnate supplier operations, cause unemployment, and damage businesses, which leads to low returns on investments. When engineering organisations become bankrupt, which truncates into their failure, the government loses tax revenues levied on the firms’ profit margins and from the suppliers’ profits. The persons consuming products or services produced by a collapsed organisation also need to look for alternative sources. Where few engineering firms produce services and products, failure of one of them due to fraud may cause imbalances in supply and demand. This aspect has the implications of increased prices. When supply becomes higher than the demand, prices increase so that a new equilibrium price can be established.

Laws and regulations to manage fraud

In the US, the Sarbanes-Oxley Act is the main law and regulation that helps in curbing fraud in publicly traded organisations. Before the enactment of the Sarbanes-Oxley Act, investors in the US suffered from various fraudulent crimes, which led to the embezzlement of billions of money. With the onset of WorldCom, Enron, and Tyco frauds, Senate Banking Committees held various hearings on various challenges encountered in the American financial markets, which had culminated into the disappearance of huge sums of money. During the hearings, the committee heard several complains, which led to the establishment of several causes of fraud. These included “inadequate oversight of accountants, lack of auditor independence, and stock analysts’ conflict of interests, inadequate disclosure provisions, and grossly inadequate funding of the Securities and Exchange Commission” (Lucas, 2004, p.17). The committee was convinced that any policy framework for curbing frauds should reflect these concerns in its formulations.

In real life engineering practice, regulations on acquiring loans were also important to help in curbing fraud. Before the enactment of the Sarbanes-Oxley Act, “various banks authorised loans to corporations without a clear understanding or ignoring any risks involved” (Jain & Rezaee, 2006, p. 631). This assertion is well evidenced by the Enron’s situation. Some investors falsely “interpreted the willingness of banks to lend to the organisation money as a key indicator of its financial health coupled with integrity” (Jain & Rezaee, 2006, p. 633). This blindness made investors incur huge losses.

The name Sarbanes-Oxley Act emanated from its sponsors, viz. Michael Oxley (US representative) and Paul Sarbanes (a U S. senator). The house first passed bill number: H.R.3763, which was prepared by Oxley on 21st April 2002. It also received support from president Bush coupled with Securities Exchange Commission (SEC). In the meantime, Paul Sarbanes was busy preparing his proposal bill number 2673 for submission to the senate (Jain & Rezaee, 2006). On 18th June, the proposal received a popular vote before the Senate Banking Committee. A week later, WorldCom would reveal its overstatement of earning by $3.8 billion, which suggests that the two bills came just at the right time. When the Senate and the House held a conference committee with the objective of reconciliation of differences between the two bills, the outcome was the Sarbanes-Oxley Act. The act was pivotal in helping to curb fraud, especially in situations where the persons charged with the administration of the owners’ financial assets failed to comply with the ethical responsibility to protect them.

Actions and impacts of the actions to the stakeholders

Preventing corporate fraud requires stakeholders to act accordingly to help in ensuring that all incidences of cover-up are identified. This goal is accomplished with the help of auditing firms. In normal practice in engineering organisations, auditing firms comprise part of the management teams. However, their reliability and dependability are compromised by the view that they self-regulate themselves and engaged in other activities like offering consultancy services with the organisations that they audit (Geiger, Raghunandan, & Rama, 2005). Some of the consulting contracts outdo auditing works in terms of net returns. This aspect implies that any attempt to pose interrogatives on accounting approaches in an engineering organisation to be audited would negatively impair any forthcoming consulting arrangement. Such conflicts of interest expose investors at higher risks of losing their investments through fraud, which I consider as unethical

Preventing the implications

In a bid to prevent the likelihood of fraud cover-ups through auditing firms, it is important for top management within an organisation to provide their certification of accuracy of all financial information provided. It is also necessary to impose heavy penalties in case of identification of financial fraud. Jain and Rezaee (2006) note that it is also important to give room for “increased oversight by boards of directors coupled with raising independences of various external auditors seeking to review accuracies for various financial statements provided by corporations at the end of their fiscal years” (p. 640). Arguably, these are additional requirements to the ethical responsibility of organisational leaders, including the engineers and auditors, to ensure transparency of financial reporting so that they do not get tempted to exploit decisions that foster personal interests.

Role of leadership in dealing with corporate fraud

In daily engineering practice, fraud should be avoided, even though engineers need to advance individual growth in life. This claim is evidenced by circumstances leading to the establishment of the Sarbanes-Oxley policy in the US. Leaders engaged in corporate fraud, which undermines a responsibility for them, especially the board of directors and CEOs, to execute the mandate of ensuring that engineering organisations adopt effective controls (Jahmani & Dowling, 2008).

Tyco and WorldCom scandals revealed that leaders participated in fraud or they had inadequate expertise in reading financial information in a bid to establish any misrepresentations. To this extent, they failed in their mandate of setting and implementing various business codes of conducts that provide guidelines for acceptable business practices. The board of directors has to assume responsibility of conducting assessments and tests coupled with carrying out evaluations of various internal control approaches for financial reporting. They also need to ensure general compliance with ethical responsibility in a bid to foster accountability. However, this obligation needs not to contravene or interfere with the roles of auditors. Jahmani and Dowling (2008) support this assertion by adding that external auditors play essential functions in the implementations of fraud management policies by ensuring inspection and evaluations. Indeed, in engineering firms, auditors coupled with leaders, have the responsibilities of ensuring that other employees comply with various codes of ethical corporate conduct.

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The objectives of the Sarbanes-Oxley Act reflect the roles of leaders for auditing firms in the processes of managing frauds in engineering organisations. This assertion is evidenced by its objective to restore investors’ confidence to accounting practices adopted by organisations, enforce and strengthen laws on federal securities, and enhance organisation’ top tone’ concerning corporate executive responsibilities. It also objects to improve the performance of corporate gatekeepers by facilitating disclosures on financial reporting. These objectives imply that engineering firms’ audit process needs to comply with integrity principles in approaches of financial accounting to ensure the reliability of financial accounts. To this extent, engineers serve the roles of controlling and monitoring operations of an organisation in a bid to avoid or identify any fraudulent activity.

Conclusion

Fraud affects all stakeholders in an engineering organisation. In a bid to mitigate it, embracing and respecting the principles of ethical decision making constitutes an important concept for fostering prevention and protection of vastly dispersed shareholders from undue acts by the leaders. Such organisational leaders face a dilemma on whether to acerbate corporate fraud in a bid to explore their interest or enhance accountability and transparency in the engineering firm’s dealings in a bid to ensure that all stakeholders’ interests are respected. While making this decision rests within their mandate, legal regulations make provisions to ensure that engineers do not fail to act appropriately and by their mandate to foster accountability. In the paper, it has been argued that resolving the dilemma whether to pursue personal interests by engaging in fraud or to pursue interests delivering gain to all stakeholders by avoiding and mitigating any incidence of fraud ensures that owners and other stakeholders of an organisation are protected from various risks that act against their interests. This way, resolution of ethical dilemma whether to engage in fraud or not prevents a clash of interests.

References

Abbott, L., Parker, S., Peters, G., & Raghunandan, K. (2003). The association between audit committee characteristics and audit fees. Auditing: A Journal of Practice & Theory, 22(2), 17-32.

Barsh, A., & Lisewski, A. (2008). Library Managers and Ethical Leadership: A survey of current practices from the perspective of business ethics. Journal of Library Administration, 47(4), 27-67.

Beran, R. (2009). Ethics in social sciences and health research: Draft code of conduct. Economic and Political Weekly, 35(12), 987-992.

Buff, L., & Yonkers, V. (2005). Using student generated codes of conduct in the classroom to reinforce business ethics education. Journal of Business Ethics, 61(2), 101-110.

Carcello, J., Hermanson, D., Neal, T., & Riley, R. (2002). Board characteristics and audit fees. Contemporary Accounting Research, 19(3), 365-384.

Carroll, A., & Buchholtz, K. (2006). Business & society: Ethics and stakeholder management. Mason, OH: Thomson/South-Western.

Choi, K. (2006). A structural relationship analysis of hotel employees’ turnover intention. Asia Pacific Journal of Tourism Research, 11(4), 321-337.

Geiger, M., Raghunandan, K., & Rama, D. (2005). Recent changes in the association between bankruptcies and prior audit opinions. Auditing: A Journal of Practice & Theory, 24(1), 21-35.

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